Seeking Alpha
Long/short equity, value, hedge fund analyst, REITs
Profile| Send Message|
( followers)  

Consequent to speculation of rising interest rates, REIT preferreds have become irrationally cheap. While most of the preferreds are fairly strong buys right now, this article will highlight the best of the best. Specifically, we will reveal high coupon preferreds trading under par with exceptional current yields. The discussion will continue with a look at liquidity and dividend cycles to aid in the process of making intra/inter-company comparisons. Part 2 of this series will demonstrate each of these issues to have superior protection from various sources of risk. Without further ado, here is the list.

Company

Issue

Market Price

Coupon

Current Yield

Date Callable

Issue Size

NorthStar Realty Finance (NRF)

NRF-A

$24.77

8.75%

8.83%

9/14/2011

$61.6mm

 

NRF-B

$24.22

8.25%

8.52%

2/7/2012

$350mm

 

NRF-C

$24.83

8.875%

8.94%

10/11/2017

$125mm

 

NRF-D

$24.47

8.5%

8.68%

4/10/2018

$200mm

RAIT Financial Trust (RAS)

RAS-A

$23.49

7.75%

8.25%

3/19/2009

$93.7mm

 

RAS-B

$24.70

8.375%

8.48%

10/5/2009

$57.2mm

 

RAS-C

$25.29

8.875%

8.77%

7/5/2012

$41mm

Resource Capital Management (RSO)

RSO-A

$24.75

8.5%

8.59%

6/14/2017

$19.9mm

 

RSO-B

$23.80

8.25%

8.67%

10/2/2017

$76.8mm

Arbor Realty Trust (ABR)

ABR-A

$24.71

8.25%

8.35%

2/1/2018

$38.8mm

 

ABR-B

$23.90

7.75%

8.11%

5/9/2018

$31.5mm

Each position in the above table can arguably form an optimal piece to an income portfolio. Choosing the best one comes down to recognizing your needs as an investor and entering at the right time. The relative advantages and disadvantages of each issue will become more transparent in the sections below.

Liquidity

Liquidity is almost universally considered a desirable characteristic for an investment, but I would like to offer a different perspective. The value of liquidity varies greatly from investor to investor, and in select cases, illiquidity may be desirable. There is a broad gradient of liquidity dispositions ranging from those who need to build or exit sizable positions quickly to the exceptionally patient and opportunistic investor. The former would pay a meaningful premium for liquidity while the latter can participate in and take advantage of illiquid issues.

As an example, let us take a look at this quote on ABR-A.

(click to enlarge)

With an issue size of only $31.5mm, and a trading volume of only 900 shares at 1:05 EST, this is clearly an illiquid issue. Typical of such illiquidity is a massive bid-ask spread shown here to be $0.30 or 1.2% of the market price.

While conventional wisdom would suggest avoiding such an illiquid stock unless there was a substantial discount associated with it, I would posit that certain investors can beneficially participate. As long as an investor has sufficient flexibility and patience, he/she will get the better end of the bid-ask spread. The more hurried counterparty in the trade will be forced to sell at a discount or buy at a premium to the fair market price. Consequently, the supremely patient investor can profit the difference both entering and exiting the position.

Among the issues listed in the chart, liquidity falls roughly on the gradient below.

(click to enlarge)

Those who require a fair bit of liquidity should consider sticking toward the left side of the gradient while more flexible/patient investors may find opportunity on the right side.

Dividend cycles

At the start of this article, I stated that these preferreds all traded below par, so what is RAS-C at $25.29 doing in the list? Well, the RAS family of preferreds goes ex-dividend on 8/29 so it is most of the way through its cycle. Subtracting for the $0.465 of accrued dividend, its actual price is around 24.82. Clearly the dividend cycles make a big difference, so let us take a look at the payout schedules.

Parent Company

Ex-Div Date

NRF

8/8/13

ABR

8/12/13

RAS

8/29/13

RSO

9/27/13*

*RSO preferreds last paid on 6/27. The date given above is assumed

From this data we can derive the adjusted market price which is market price less accrued dividend.

Company

Issue

Adjusted Market Price

Coupon

Adjusted Current Yield

Cost relative to par

NorthStar Realty Finance

NRF-A

$24.74

8.75%

8.84%

98.9608%

 

NRF-B

$24.19

8.25%

8.53%

96.7701%

 

NRF-C

$24.80

8.875%

8.95%

99.1988%

 

NRF-D

$24.44

8.5%

8.69%

97.7656%

RAIT Financial Trust

RAS-A

$23.11

7.75%

8.38%

92.4490%

 

RAS-B

$24.27

8.375%

8.63%

97.0830%

 

RAS-C

$24.82

8.875%

8.94%

99.2971%

Resource Capital Management

RSO-A

$24.49

8.5%

8.68%

97.9692%

 

RSO-B

$23.56

8.25%

8.75%

94.2379%

Arbor Realty Trust

ABR-A

$24.71

8.25%

8.35%

98.8400%

 

ABR-B

$23.90

7.75%

8.11%

95.6000%

Investment Implications

REIT preferreds range from ~6% to ~9%, with most on the higher end of yield coming with extra risk. The list above, however, breaks the rule by simultaneously yielding 8-9% and carrying reduced risk. Such high coupon preferreds rarely trade below par, so investors would be wise to consider jumping in at this opportune moment.

While this article highlighted the unusually high yields of these preferreds, we have not yet discussed the risk side of the equation. That will be the subject of part 2. It will demonstrate the above preferreds to be particularly well protected against both traditional and recently introduced risk factors.

Disclosure: 2nd Market Capital and its affiliated accounts are long NRF, NRF-B, NRF-C, RAS, RAS-A, RAS-B and RSO-C. I am personally long NRF, RAS, NRF-B RAS-A and RAS-B.

Source: 8%+ Yielding REIT Preferreds: The Best Of The Best - Part 1